China/Oil Reserves: Active Purchases, But Facilities

UNCLAS SECTION 01 OF 03 BEIJING 001058

STATE FOR EEB/ESC/HENGEL, EEB/ESC/PSECOR/JKOPP, EAP/CM/HABJAN/FLATT

TREASURY FOR OASIA/ISA

SENSITIVE
SIPDIS

E.O. 12958: N/A
TAGS: ENRG EPET ECON SENV CH
SUBJECT: China/Oil Reserves: Active Purchases, But Facilities
Filling Up

Ref: 08 Beijing 4603


1. (SBU) Summary. Beijing is taking advantage of lower oil prices
to build up its strategic petroleum reserves (SPR). The four
existing SPR facilities - which hold the equivalent of about 25 days
of imports - reportedly are now full, challenging China's ability to
continue purchasing oil for reserves. Industry associations have
submitted proposals to the government offering short-term reserves
storage, including in private oil company tanks and offshore
facilities. But these proposals, which appear to be aimed at
garnering financial support for industries affected by the economic
crisis, have not gained traction among policymakers. By 2011, China
plans to construct enough new facilities to nearly triple its SPR
capacity to the equivalent of 70 days of imports. Officials have
indicated that China plans to eventually meet OECD-level SPR
standards, bringing China up to the 90-day requirement for
International Energy Agency (IEA) participation. End Summary.

SPR building Phase I complete, moving to Phase II
-------------- --------------

2. (SBU) According to National Energy Administrator Zhang Guobao,
China aims to take advantage of lower oil prices amid the global
economic crisis to build its strategic petroleum reserves (SPR).
China's first phase of SPR facilities, for which construction began
in 2004, are located at four sites along China's coast in Zhenhai,
Aoshan, Dalian, and Huangdao. According to press reports, these
sites are now operating at full capacity and China plans to build an
additional eight SPR bases by 2011 under Phase II of the
government's SPR development program. Once completed, this will
increase total SPR capacity from approximately 103 million barrels
(equivalent to about 13 days of consumption or 25 days of imports)
to 281 million barrels (35 days/70 days).


3. (SBU) Chinese media reports claim that most of the new SPR
facilities will be built along the coast, although inland sites,
including Lanzhou, Wanzhou, Shanshan, and Linyuan are also being
considered. According to Anbang News, China National Petroleum
Corporation (CNPC) has already "quietly" begun construction of SPR
and commercial reserves tanks in the Tianjin Binhai New Area. The
National Energy Administration (NEA) declined to discuss SPR
construction plans with Econoffs.

China's oil reserves - a multi-tiered system
--------------

4. (SBU) National Development and Reform Commission-affiliated
Energy Research Institute (ERI) Center for Energy Economics and
Development Strategy Assistant Director General Gao Shixian, told
Econoff April 17 that China's crude reserves system is best
understood as a multi-tiered mechanism composed of central
government-funded "national" SPR bases, national oil companies
(NOCs') reserves facilities, and commercial reserves facilities
owned and operated by private oil companies, which primarily run
smaller-scale refining operations and store refined oil products
destined for gas stations.


5. (SBU) China's national SPR facilities are built and operated by
Chinese NOCs, although the government retains decision making
authority on SPR management. According to Cambridge Energy Research
Associates (CERA) China Energy Director K.F. Yan, during Phase I,
Sinopec held responsibility for construction of the Zhenhai and
Huangdao facilities, while CNPC built those at Dalian, and Sinochem
constructed facilities at Aoshan. In a conversation with Econoff on
April 20, Yan said he expects Phase II construction to proceed
quickly, with some facilities to be completed as early as the end of
this year, but acknowledged that it is difficult to track progress,
as few details have been released by the government.


6. (SBU) Both Yan and Gao noted that Chinese NOCs (PetroChina,
Sinopec, and China National Offshore Oil Corporation) are required
to maintain a government-set level of reserves at all times through
a "mandatory corporate petroleum reserves" system established in

2007. Although mandatory corporate petroleum reserves are not
considered SPR, Chinese NOCs would be obligated to supply oil from
these reserves to the central government in a crisis situation.
According to CERA's Yan, these reserves are managed by the NOCs,
which have the authority to designate volumes and timing of releases
of stock with government approval.

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Private companies offer to lease facilities for SPR use
-------------- --------------

7. (SBU) Low global energy prices put China in a good position to
build SPR, however, given that China has already exhausted its
current SPR capacity, its ability to continue to purchase oil at low
prices will be limited until new SPR facilities come online. In
early March, Zhao Youshan, head of the Petroleum Distribution
Committee of the China General Chamber of Commerce, an industry
group, reportedly submitted a proposal to government agencies
recommending the use of facilities controlled by private oil
companies to store SPR. Zhou stated in his proposal that China's
more than 600 private oil companies have 230 million tons of storage
capacity, well beyond the combined capacity of the eight proposed
new SPR bases. Last year's combination of high international oil
prices and low, government-set retail fuel prices reportedly left
many private oil companies broke and survivors are now struggling
with the high maintenance cost of empty tanks.


8. (SBU) According to Guan Qingyou of Tsinghua University, using
idle private tanks to store SPR could help China build its SPR at a
low cost while helping private refineries pull through the
recession. Most analysts remain skeptical, however, and it does not
appear that this proposal is gaining traction among policymakers.
ERI's Gao told Econoff that private oil companies are now facing a
situation in which they can earn greater profits by leasing their
fuel storage tanks to the government or the NOCs, but their
facilities are designed for holding refined fuel products and they
are spread throughout the country, which makes them less practical
as SPR facilities. CERA's Yan agreed, noting that most private
companies own smaller tanks, which are less efficient and
cost-effective than the large-scale tanks at existing SPR
facilities.

China Shipping Group floats other SPR storage ideas
-------------- --------------

9. (SBU) Li Shaode, China Shipping Group President, told the media
in early March that he had proposed the government use some of its
foreign exchange reserves to purchase "floating SPR storage
facilities" because the onshore tanks were full. Li's proposal
gained a lot of attention in the Chinese press, which highlighted
that the plan would eliminate the need for additional land use while
stimulating iron, steel, ship building and other industries that
have been hard hit by the global economic crisis. ERI's Gao
dismissed the idea, however, explaining that China, like other
countries, would be unlikely to store its SPR offshore. Yan agreed
that he could "not envision the Chinese government using retired
tankers to store SPR for both security and practical reasons."

China to reach IEA reserves requirement level?
-------------- -

10. (SBU) An April 14 Bloomberg report citing a CNPC newsletter
stated that, according to NEA Chairman Zhang Guobao, "(China's)
ultimate reserve target is to meet the level of countries in the
Organization for Economic Cooperation and Development (OECD)."
Reaching this goal would be tantamount to meeting the 90 days of oil
imports reserves requirements for membership in the International
Energy Agency (IEA). (Note: China currently participates in many
IEA activities, but it has not expressed an interest in pursuing
membership at this time. End Note). ERI's Gao said he was not aware
of Zhang's statement, but offered that this target would not likely
be reached until at least 2015 or 2020. Japanese Ministry of
Foreign Affairs Economic Security Division Director Tamaki Tsukada
told Econoff on April 16 following consultations in Beijing that a
Chinese analyst informed him that China already has 50 to 60 days of
reserves if both national SPR and NOCs' mandatory reserves are both
taken into account.

Comment: SPR remains a sensitive issue
--------------

11. (SBU) The Chinese government continues to view SPR as a highly
sensitive security issue. Chinese policy makers, in particular NEA
Chairman Zhang Guobao, remain deeply suspicious of international
markets and continue to blame speculators for last year's spike in
international commodities prices. That said, recent domestic media
coverage of China's plans to implement Phase II of its SPR
development plan and Zhang Guobao's decision to state publically

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China's intentions to build SPR while prices are low indicates that
some efforts may be underway to increase transparency on this issue,
at least at a very basic level.

PICCUTA